Reality checks for executive pay reports

Top executives will benefit from greater secrecy about their performance hurdles and will have to disclose only take-home pay rather than inflated accounting values, under proposals from the federal government’s corporate law adviser.

Boards will also be free to choose their own method for valuing equity perks given to executives.

The changes aim to simplify the increasingly complex rules governing executive pay disclosures and were recommended by the Corporations and Markets Advisory Committee (CAMAC) after a year-long review.

But the report says now is “not the time" for a major overhaul of the rules because pay practices are likely to “evolve significantly" in response to other changes before Parliament.

Shareholders groups and even directors say the 12-month review has missed a golden opportunity to radically simplify remuneration reports to make them easier for ordinary investors to understand.

While the report was backed by directors, institutional investors and their advisers criticised the proposal to allow boards to withhold how bonuses were calculated if the details were commercially sensitive.

“If the arena doors are shut you want to make sure that the companies have not moved the goalposts," said Ann Byrne, chief executive of the Australian Council of Super Investors, which represents funds that manage $300 billion in retirement savings. Australian Shareholders Association chief Vas Kolesnikoff agreed.

“If companies don’t disclose the performance hurdles, there is no way of knowing if executives are being paid for outperformance or something else." But CAMAC says the exemption from disclosure would “remove unnecessary inhibitions on companies developing performance ­conditions".

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The government asked for the CAMAC review as part of its response to the Productivity Commission review into executive pay in 2009.

Releasing the report yesterday, Parliamentary Secretary to the Treasurer
David Bradbury
said the length and complexity of the regulations “can make it difficult for shareholders to understand, and onerous on companies to prepare".

The government has adopted the Productivity Commission’s recommendation for a “two strikes rule", ­giving investors more power to spill a board that repeatedly ignores pay concerns. While due to start in July, it is unclear if that change, which is strongly opposed by business and directors, will be passed in the remaining two sitting weeks of Parliament. The Greens recently called for tougher changes that would require chief executive pay to be capped at 30 times the average wage of their company’s employees, limiting bosses to an average of just under $2 million a year.

The review says that pay practices will significantly change this year depending on the final form of the government’s legislation and the two-strikes rule, and further change should be put on hold.

“CAMAC considers that, while some well-developed simplification proposals have been put forward, this is not the time to undertake major ­legislative changes to the remuneration reporting requirements, given the foreshadowed introduction of the two strikes rule," the report says.

“Once the two strikes rule has been in operation for some time, it may be appropriate to draw on evolving remuneration reporting practice, and the simplification proposals."

The major recommendation made was for the law to be changed to require companies to break up executive salaries to spell out which bonuses have and have not been received in any particular year.

The reform would ensure that shareholders were given a clearer picture of the amount actually “taken home" by top executives. This issue has been a long-running bugbear of directors for years. They claim that because of the way executive pay figures are reported, the media will attribute amounts to a CEOs pay packet that may never be received.

“It would not be an exaggeration to say that remuneration reported by Australian companies over the past decade, but never actually received by employees, would total billions of dollars," National Australia Bank chairman
Michael Chaney
has previously told the The Australian Financial Review.

Recent analysis by the Financial Review of the largest 20 sharemarket-listed companies found that when the accounting value of long-term incentives was excluded, the level of executive pay dropped by about 30 per cent. That extra 30 per cent may still be received by executives, but sometimes years after it was granted.

However, in respect of the often large payments to executives when they leave their post, the report concludes that disclosure is often deficient, and should be expanded to cover “all payments", broken down into statutory entitlements, severance payments and post-severance arrangements. While the government made changes in 2009 requiring investors to approve payouts greater than one year’s base pay, the definition and disclosure of termination payments has become blurred, the report says.

“In recent years we have noted that the payments received by executives on termination often do not reflect the previously disclosed termination payments provided for under the relevant executive’s contract," it says.

Termination payments were often accompanied by other discretionary amounts such as options under share plans, a gratuitous bonus or for the settlement of a dispute.

The report recommends scrapping the requirement for companies to use accounting standards to value shares and options in their remuneration reports, allowing companies greater flexibility to adopt their own approach. It says the purpose of the remuneration report is to disclose what particular executives earned, not to allocate the cost to the company, which was the purpose of the accounting rules. The accounting values will still be disclosed in the financial report.

The review also found that companies should be free to choose the method for valuing options and other perks. But Ms Byrne said that proposal could make it harder for investors to accurately assess.

Company directors said the report was a missed opportunity because it did not back the wholesale rationalisation of the disclosure rules.

“The ability to understand remuneration reports will only be improved when the number and complexity of the specific disclosures required to be included in the reports are substantially reduced and simplified," the Australian Institute of Company Directors’ chief executive,
John Colvin
, said.

Remuneration adviser Michael Robinson of Guerdon Associates agreed. “There was a real opportunity here for a major simplification of remuneration reports to make them easier to understand while retaining the critical information needed by sophisticated investors. It appears that the end results will be a tweak of the reports."